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D.C. Current

Hedge Funds Catch a Break

By

Jim McTague

Updated May 7, 2007 12:01 am ET / Original Sept. 15, 2019 5:56 am ET

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DON'T FRET, MOM AND DAD: It's not too late for junior or sis to launch a hedge fund and join the ranks of the instant billionaires.

This news no doubt is a relief. The end of the golden age for hedge funds had appeared imminent. Politicians around the globe are salivating over these untapped pots of gold. A tax grab clearly would diminish the attractiveness of an investment vehicle that consistently provides superior returns for the management if not the investors.

But last week we detected surprising evidence that a political threat from Europe was abating, in words not spoken in Washington, D.C. by German Chancellor Angela Merkel after the signing of the U.S.-E.U. Trans-Atlantic Agreement on Regulatory Cooperation. Merkel, who is also E.U. president this year, never once mentioned "hedge funds." This is noteworthy, given her earlier, skeptical comments about hedge funds, and furious attacks on hedge funds by European politicians, most notably Nicholas Sarkozy of France. France alone can't affect the industry. Funds could pick up and move. But if Merkel and the E.U. cracked down, globally minded hedge funds here and abroad could feel the pressure.

David Hirschmann, president of the U.S. Chamber of Commerce's Center for Capital Markets Competitiveness, senses a more rational view emerging in Europe, where there is concern that hedge funds might be destroying companies, not enhancing their values. Sarkozy, a presidential candidate, terms the funds "predators" and threatens them with a tax. "We cannot tolerate a hedge fund buying a company with debt, firing a quarter of the staff, and then enriching themselves by selling it to pieces," said Sarkozy.

When Merkel assumed the presidency of the E.U., she announced that her top priorities included increased hedge-fund transparency plus a "voluntary" code of conduct from the industry. This was perceived by hedge funds as a certain drift toward regulation.

Bush administration policy makers prefer a hands-off approach to hedge funds, regulating their counterparty, banks, instead. E.U. Internal Markets Commissioner Charlie McCreevy has a similar view. He has said that hedge funds are good for the market because they add liquidity, enhance shareholder value and spur innovation. McCreevy seems to have swayed Merkel.

U.S. Congressmen have not been similarly swayed. Members of Senate are considering taxing fund partners' share of fund profits at the 35% rate for ordinary income. Currently these profits are taxed at the 15% capital gains rate. It hasn't helped that at least three fund managers had annual income topping $1 billion. Nor was it an auspicious PR moment when Marc Lasry, of Avenue Capital Group, a $13 billion hedge fund, announced at the recent Milken Global Conference in California that "the amount of money we make is obscene."

Republican Sen. Chuck Grassley of Iowa, ranking member on the Senate Finance Committee, is seriously mulling the tax hike. A spokeswoman says only that he is "interested in the area of tax fairness."

One thing going for the hedge funds: The tax would be a blunt instrument, hurting real-estate and oil limited partnerships, too. Ultimately, that may give Congress pause. Says Hirshman: "The last thing the real-estate market needs is a punch in the stomach."

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